Listed property investment

Posted On Wednesday, 14 February 2001 03:01 Published by eProp Commercial Property News
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R4bn is promised in new property listings, but they face a strong value challenge from equity One thing to remember about professional investors is that they don't willingly part with assets when they view them as cheap. So a surge in listed property activity that could be worth about R4bn in new listings this year must be viewed with a jaundiced eye. 


Property-Housing-ResidentialExcluding UK-based Liberty International's R16,8bn market capitalisation, R4bn in new listings would increase the size of SA's three listed property sectors by 40%. This comes after three years in which the property loan stock (PLS) and property unit trust (PUT) sectors have outperformed the equity and bond markets.
Their performance has been particularly strong since the market's lower turning point in September 1998, with PLS and PUT stock prices appreciating by 90% off initial income yields of about 23%/year.
This must be seen in the context of the gloom of 1998, when PUTs and PLSs offered unprecedented value relative to alternative investments.
Most property managers agree current valuations fairly reflect underlying physical properties. Some property funds are trading at premiums to NAV. Grayprop, a PUT heavyweight, has moved from a 45% discount to NAV in late 1998 to an 18% premium now.
More pertinent are income yields relative to alternative investments. The conventional comparison is with marketable bond yields. Average income distribution yields on good quality PUTs and PLSs of 12,2% are virtually on par with government R150 and R153 bond yields. But with no concrete rules applicable to the property income yield/bond yield relationship, this says little.
PUT and PLS yields have moved well above and below bond yields in the past. At their worst in 1998, they stood seven percentage points above bond yields and at their best in 1994 were seven percentage points below bond yields.
This is unsatisfactory; other value tests are required.
One test is to divide average PUT earnings yields by the average industrial share earnings yield. Any level below 2,0 rings warning bells as PUTs have not achieved a better rating than a 1,8 ratio in more than eight years. This also applied in 1994, when the property income yield/bond relationship was at its most bullish. Now the ratio is 2,2.
A surge in equity values wouldn't necessarily mean that property stocks would continue to outperform industrial shares.
Somewhat ignored in the bond and property euphoria is that high dividend yields on quality shares represent an alternative to income-seekers.
A portfolio containing Reunert, SA Eagle, Dunlop, Pikwik, Sasol, Invicta, Ozz, Unitrans, Sage, AECI and PPC has produced 13%/year average dividend growth since 1994 and stands on a 6% dividend yield.
Taxation of PUT and PLS income distributions versus tax-free dividends also comes into play. Top-quality PUTs are yielding 7,4% after tax at 40%. This 1,4 percentage point after-tax premium on PUTs is way below the four percentage points advantage they offered between 1994 and early 1998.
The general view is that PUT and PLS income growth will maintain the 60% of inflation rate norm, indicating growth of 4%-5%/year. It should not be hard for average dividend growth to exceed this.
Taken over the next three years and assuming unchanged ratings (6% dividend yield and 7,4% taxed PUT yield), a 10%/year dividend growth rate indicates a total return of 55% on the equity portfolio and 40% net from PUTs. Well-tested advice to conservative income seekers is: spread risk among asset classes, include an offshore component and stick to quality - especially because new tax legislation will require annual professional revaluation of properties. Even managers of some leading funds admit that certain properties in their portfolios, valued on rental returns of about 12%, have market values up to 40% lower.
Relative income yield ratings can be used as fairly reliable guides to the underlying quality of properties.
For example, the highest-rated PUT is Sycom on an 11,5% income yield. This reflects the high quality of its portfolio and management's focus on upgrading assets.
By comparison, a PLS like Octodec with a 19,5% yield may be tempting. But a 7% fall in income distributions since 1997 and a 26% discount to NAV based on directors' valuations point to market scepticism.
Another PLS yet to achieve a high market rating is Redefine. The stock yields 16,5% on a portfolio of quoted securities (R610m) and direct property holdings (R587m). Valued at the average 13,6% PLS and PUT earnings yield, its properties are valued at a yield of 19,5%.
This either indicates investor unwillingness to accept high gearing (60%, excluding debenture holders' funds) or that its properties are not of prime quality.
CEO Peter Penhall denies Redefine's properties are not of high quality. 'Our short six-month track record is the main reason for the poor rating,' he says. Unrealised profits on the quoted assets would cover all borrowings, he adds.
Building obsolescence, vacancies and refurbishment costs can play havoc with a small property operation's profits. In R1bn-plus portfolios such as Grayprop, Martprop or Grayvest, wide sectoral and geographic spreads limit these risks.
In medium-sized PLSs and PUTs, focus on top-quality properties is essential. Here Sycom and soon-to-be-merged Hyprop/ Kirschman-Hurry stand out.
Richway is another quality PLS if you have an appetite for retail property, or more specifically, Cape Town's Century City and its Canal Walk shopping centre.
If unit holders approve the R417m deal , Century City will comprise about 70% of Richway. Though the deal comes with warranted yields for three years and it is planned to increase the portfolio to more than R1bn, investment appears to depend largely on this one megacentre.
For offshore property exposure consider Liberty International . In the three years to June 2000, Libint increased NAV by 16,1%/year and dividends by 8,6%/year in sterling and should maintain dividend growth at about 8%/year.
Marriott's new Global Real Estate unit trust on an initial yield of 5,94% is an attractive US dollar-based alternative. Management has indicated income growth potential of 3%/year.

Last modified on Thursday, 24 April 2014 10:03

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